Can Government Regulation Deter Hacking of Crypto Exchanges?

Almost one year after Japan instituted mandatory registration of all cryptocurrency exchanges, the country has experienced a major security challenge after one of its leading exchanges, CoinCheck got hacked this past Friday. The hacking attack saw 260,000 customers lose an equivalent of $534 million in NEM cryptocurrency, exposing major security gaps in cryptocurrency exchanges.

Akshay Mehra, founder of Crowd Genie, says, “Coincheck breach was a security gap in the exchange. In a lot of ways, it is similar to a bank branch being burgled. I expect regulators to start looking at forcing exchanges to implement a minimum set of security tools. Additionally, it would not be surprising for regulators to expect exchanges to set aside a fund or insurance to compensate users in the event of such breaches due to security gaps.”

In April 2017, all Bitcoin exchanges in Japan were required to register with the country’s financial regulator. This was after the government started recognizing Bitcoin as a currency legally accepted in payment. The move was aimed at protecting consumers and preventing illegal utilization of digital currencies after the collapse of Tokyo’s Mt. Gox Bitcoin exchange in 2014.

With an ongoing global debate on the regulation of cryptocurrency trading, CoinCheck’s hacking attack brings the question of cryptocurrency security to the forefront, in addition to the need for governments to balance consumer protection and innovation.

“Amongst governments, cryptocurrency has been a topic of continual debate, and we will see many attempts to regulate the markets. A certain level of regulation is certainly a move in the right direction as long as countries do not try to ban trading, which would make the use of crypto assets illegal. Such a move would not work. Historically, currencies need the support of a central authority to guarantee its value and deliver securities to investors. As such, a possible solution would be to officially accept and support cryptocurrencies but to improve levels of protection for participants on an international level, mainly by taking a closer look at other cryptocurrency exchanges,” notes Dr. Axel Schumacher, co-founder and CEO of Shivom.

According to Jameel Shariff, the CEO of P2PS, hacking is a phenomenon that is predominantly prevalent in the crypto space largely due to weak passwords and lack of a secure, interference-free communications system.

“Governments are getting impatient to bring in stringent regulations. On the other hand, there is not much that they can really do to prevent hacking of either crypto exchanges or crypto wallets due to the very nature of the crypto transactions other than a few administrative measures in addition to frequent site visits,” Shariff says.

This huge gap is the very reason his firm, P2PS, was set up and is now looking at a 772 million end users market size globally.

At the same time, cryptocurrency players like Menlo founder, Matt Nolan, feel that hacking occurrences such as the one that hit CoinCheck should be helping the cryptocurrency community to determine the industry’s best practices.

He says, “I frankly think crypto is a space where the free market should be deciding best practices right now. Everyone in the space has been warned not to keep money on exchanges as they’re a single point of failure.”

Disclaimer: David Drake is on the advisory board for most of the firms mentioned or quoted in this article.